Baht falling prey to foreign speculation

Foreign currency speculators are trying to corner the Thai baht with the aim of
forcing a devaluation, Vatchara Charoonsantikul and Thanong
Khanthong report.

LIKE a pack of hyenas, foreign currency speculators are circling the seemingly helpless
Thai baht and persistently attacking their weak prey until it succumbs to devaluation.

Since the beginning of this year the assault has become fiercer, drawing blood from the
Thai currency which has been forced down to the Bt26 mark against the US dollar _ the
first time in five years. The speculators know that if they keep up their pressure, it
will be extremely difficult for the Bank of Thailand to defend the baht because
macroeconomically speaking, Thailand is now not as sound as it has been in the past 10
years.

With the export slump, the stock market meltdown, the property crisis, the slowing
economy, the world's highest current account deficit and the deteriorating asset quality
of financial institutions, it is increasingly difficult for the central bank to defend the
baht, which is drifting farther into the open field where the hungry wild animals lie in
wait.

From their fortresses in Singapore, the regional foreign exchange centre, the
speculators also understand the risks of attacking the baht. First, they write bad country
reports about Thailand. Then they send out rumours of a baht devaluation before they step
in to hit the currency in the swap market, where currency trading is settled at a
specified price and date.

The strength of the attack in the three-month swap market has intensified, sending the
baht to the top of the trading band and forcing the Thai central bank to adopt a tactical
strategy to let the baht creep down. With blood in its eyes, the fatigued central bank has
opted to intervene in the six-month swap market to counter the attack, yet its defence is
getting weaker.

The mid-rate, as quoted by the central bank, has slipped down from Bt25.61 since the
end of 1996 to Bt25.92 as of yesterday. Over the past one week the pressure on the baht
has become more severe, as evidenced by a jump in the one-month swap point of the baht/US
dollar trading from 11 to 14 satang to 19 to 20 satang; the three-month swap point from 23
to 24 satang to 40 to 42 satang; the six-month swap point from 43 to 44 satang to 70 to 72
satang and the one-year swap point from 90 satang to 135 to 145 satang.

How long the banking authorities will be able to withstand the onslaught of the hyenas
depends on how quickly macroeconomic conditions improve and confidence in the overall
strength of Thailand returns. In the immediate term, however, Dr Chaiyawat Wibulsawasdi,
assistant governor of the central bank and manager of the Exchange Equalisation Fund, has
sought to defend the baht by tightening monetary policy. By keeping interest rates high,
the speculators will face higher costs in their baht borrowings they need to need to sell
for the dollar. However this strategy happens to play into the hands of the currency
arbitragers. The widening differential between the baht and US dollar interest rates has
opened up a window of opportunity for interest rate arbitrage. With the baht pegged to a
basket of currencies dominated by the US dollar, there is little prospect of exchange
risks.

The continuing attack on the baht has spilled over into the money market and the
capital market to complicate economic management. When the speculators speculate on the
baht, they do so by selling baht and buying US dollars. Since they do not have baht on
hand to sell, they have to borrow it from the domestic market.

This has sent the money market rates sky-high. Finance companies, which are already
weak from their deteriorating asset quality, are suffocating from the high cost of funds.
Yesterday the inter-finance rate _ the rate at which finance companies lend money to one
another _ shot up to 45 per cent, while the interbank rate, the rate at which banks lend
money to one another, also jumped to 40 per cent.

The high money market rates reflect the scarcity of baht in the system. The financial
institutions are strangled by a lack of liquidity. Some have been forced to raise their
call rates, or daily deposit rates, to 16- 17 per cent _ even higher than the minimum
lending rates _ to maintain their liquidity.

With the heavy selling of baht for dollars, the baht is automatically sucked into the
Bank of Thailand's coffers, which also holds the largest dollar reserves. A policy dilemma
emerges as to how the central bank can re-inject baht back into the system to prevent a
severe credit crunch that might paralyse the entire financial system.

Finance Minister Dr Amnuay Viravan should be applauded for his courage in fighting for
drastic spending cuts of Bt99 billion in the 1997 fiscal budget. This move, which must be
followed through in practice, seems to be evidence of Thailand's attempt to narrow the
current account deficit and to live within its means.

Another smart move by Amnuay is to let the Thai government issue US$500 million in
Yankee bonds. He discussed this subject with senior executives of JP Morgan last week, who
are eager to clinch this handsome deal. This offshore fund raising exercise will reduce
the burden of corporate debts and transfer more of the debts to the government, which is
financially healthier than the private sector.

The Thai government still commands a strong sovereign rating, so it should be able to
raise 10-year debts or longer debts from the international financial markets. Only the
selective Thai blue-chip companies, such as Bangkok Bank, Thai Farmers Bank and
Cogeneration, stand a chance of raising fresh funds from the overseas markets, while the
second-tier corporations are seeing their creditworthiness being eroded.

The Yankee bonds will also reduce the amount of short-term debt, part of which is
funding Thailand's current account deficit. Moody's Investors Service has downgraded
Thailand's short-term debts credit rating because it considers that in the event of
unpredictable incidents, the pull-out of short-term debts from the country could cause
instability in the Thai financial system.

In the meantime, to fend off the hyenas, there are three administrative measures worth
pursuing by the central bank.

First, the central bank may require offshore and onshore transactions in baht/US dollar
trading to be separated. For offshore swap transactions, punitive costs will be imposed by
adding reserve requirements.

Second, banks incorporated in Thailand could be prohibited from selling swaps to their
foreign counterparts.

Third, swap transactions per counterparty could be drastically limited. In Singapore,
the limit is US$5 million per counterparty.

With most of the baht/dollar trading conducted in Singapore, the banking authorities
have no knowledge of, nor do they have jurisdiction over, the settlements, which show the
positions of each individual bank. They could always send a stern warning to any locally
incorporated banks to shy away from speculating against the Thai baht in a manner that
destabilises the Thai financial system.

``If they don't obey, the banking authorities could simply go ahead to revoke their
licences,'' said an observer of the Thai financial system.